Reading time: 2,587 words, 10 pages, 6 to 10 minutes.
Until recently, China’s demand for commodities to feed its manufacturing appetite kept resource nations like Canada, Australia and others from suffering as much as the U.S. during the depths of the last recession. Australia didn’t feel much of a slowdown and Canada’s recession was relatively short.
This will hurt resource nations like Canada because there will no longer be a cushion provided by China’s insatiable demand for commodities.
There are many factors at play in China’s slowdown:
a) In the first place, as I’ve said before, the Chinese ‘economic miracle’ is much smoke and mirrors. For more than a decade, China has ALWAYS achieved its growth forecasts to the decimal. That is impossible. They cook their numbers even more than the Amerikans. Nobody can consistently forecast with decimal-place accuracy year after year. Chinese growth statistics are cooked by bureaucrats to please their leaders.
b) China’s bank asset bubble is so gargantuan it exceeds the U.S. The chart below from Zero Hedge shows the total Chinese bank assets compared to the U.S. Fed’s Quantitative Easing (QE) liquidity injections to Amerikan banks over the last five years.
The blue line is China, the red line is the U.S.
According to Zero Hedge, “in the past five years the total assets on US bank books have risen by a paltry $2.1 trillion while over the same period, Chinese bank assets have exploded by an unprecedented $15.4 trillion hitting a gargantuan CNY147 trillion or an epic $24 trillion – some two and a half times the GDP of China!
“Putting the rate of change in perspective, while the Fed was actively pumping $85 billion per month into US banks for a total of $1 trillion each year, in just the trailing 12 months ended September 30, Chinese bank assets grew by a mind-blowing $3.6 trillion!”
In a second report Zero Hedge says, “China is now hooked to a ‘flow’ pace of $3.5 trillion each and every year, just to generate an annual GDP of about 8% and declining with every passing year. Any reductions in the pace of monetary flow will have magnified implications on China’s growth, and from there, social, and global, stability.”
More dirty laundry is coming to light: “CITIC Trust tried to auction the collateral but failed to do so because the developer has sold the collateral and also mortgaged it to a few other lenders.
“Until now nobody cared because defaults were prohibited in China and nobody really cared what was underneath the hood. Now, defaults are allowed and, in fact, are encouraged. Which is why suddenly everyone is starting to cast curious glances into the dark shadows where the engine is supposed to be.”
Bubbles burst and big bubbles burst spectacularly.
c) Chinese leadership realize they are in bubble territory and are desperately trying to rein in wild, out-of-control speculation and prevent their over-heated economy from getting even hotter. They are beginning to allow bankruptcies and they hope they can achieve a ‘soft-landing’. These are the same people who allowed gargantuan bubbles to form in the first place and now they think they can engineer their gentle bursting. I wish them luck.
The chart below shows China’s non-performing loans increasing at an exponential pace.
Zero hedge headlines it “The Pig In The Python Is About To Be Expelled”: A Walk-Thru Of China’s Hard Landing, And The Upcoming Global Harder Reset.
Alasdair Macleod says “China’s government is trying to restrict credit growth, which is impossible to do without setting off wide-spread debt liquidation. Instead of managing a hoped-for retreat towards order, tighter monetary conditions will almost certainly bankrupt owners of unproductive property assets, piling up bad debts at lending banks. Unlike the Lehman crisis, this time the major banks are government-owned, so China’s currency is at considerable risk, and it is already displaying initial weakness.”
“In the Chinese version of shadow banking, an asset such as a few thousand tonnes of copper in conjunction with letters of credit is used to raise cash over and over again to spend on property speculation and elsewhere. All sorts of shady deals, some of them downright fraudulent, can be expected to come unstuck, and China seems set to provide an extreme example of this empirical truth.”
That’s the trouble with governments; all governments. They don’t know what they’re doing and when they tinker with economies they discover the hard way that they’re playing with dynamite.
One of the biggest criticisms of unfettered capitalism is the economic booms and busts that occurred on a regular basis. Yet, that ‘creative destruction’ is exactly what makes capitalism work. Today, idiot governments are trying to ‘smooth’ the extremes of boom and bust cycles, yet all they do is delay the inevitable and make the resulting bust that much worse.
Forty years ago there were 50 snowmobile manufacturers. We knew that 90% would go bankrupt. We didn’t know which ones. Today there are 5 remaining.
In 1908 when Ford began assembly-line production of automobiles, over 300 car manufacturers (many were ‘back yard’ operations) had already gone bankrupt leaving the strongest to survive. Can you imagine what idiotic contraptions we’d be riding today if pin-head government bureaucrats had meddled back then?
The Chinese are trying to avoid Japan’s mistakes in preventing zombie companies from declaring bankruptcy because it plunged Japan into a two decade flat-line economy.
The Chinese don’t realize, they’re doing too little, too late. Their problem, indeed the whole world’s problem is TOO MUCH DEBT. The Guardian reports the Chinese are “copying the Japanese tactic of ramping up public infrastructure spending to replace the steep slowdown in private sector investment. Fixed asset investment, a measure of government spending on infrastructure, expanded 17.9% during the first two months of 2014.”
The Japanese tried that, too; “building bridges to nowhere”, substituting increased government spending for falling private spending. It DIDN”T WORK for Japan. It won’t work for China. You can’t put toothpaste back into the tube. Government meddling NEVER works in the long run.
The Telegraph reports “Japan’s economy is losing steam as the monetary stimulus from “Abenomics” [Japan’s massive QE] wears off and the country braces itself for a rise in the consumption tax from 5pc to 8pc. Economic growth slumped from 4pc in early 2013 to 0.7pc in the fourth quarter, while the country racked up a record trade deficit.”
China, the world’s largest ‘command economy’ – the ultimate in government meddling – is now painfully discovering they never knew what they were doing. The chickens are coming home to roost and dynamite juggling will explode (gotta stop mixing those metaphors). Keep reading for more examples.
d) Jim Rickards in Rickards: The China bubble is bursting says, “China’s problem is an over-reliance on investment to the exclusion of consumption.”
Here are some more snippets from Rickards’ article:
“Investment makes up 45% of Chinese gross domestic product compared with about 20% in the U.S. … much of [China’s] investment is wasted on white elephant projects such as empty cities, monumental train stations, and unused airports.”
“If reported GDP were adjusted for wasted investment, actual growth in China would be seen to be much lower today.”
“… any reduction in investment would depress Chinese growth immediately while the benefits of increased consumption might only be achieved over long periods of time … Chinese citizens are reluctant consumers because of their need to save for retirement or health care due to the lack of a Chinese social safety net.”
“Chinese workers are demographically dominated by those in their 40s and 50s who have the highest propensity to save, not spend.”
“China is on the verge of a financial collapse of unprecedented magnitude.”
“The only investments available to most Chinese other than low-rate bank deposits are gold, real estate and so-called ‘wealth management products’ … [that] are not guaranteed … which resemble the notorious collateralized debt obligations popular in the U.S. before the Panic of 2008 … Banks cover this up by selling new products and using the proceeds to pay off the old ones. This is exactly how a Ponzi scheme operates.”
“Eventually some event such as a project failure or admitted fraud will start a panic in which investors demand that the banks redeem their wealth management products all at once … A run on the banks will commence that only government intervention and bailouts can contain. The result will be a general collapse in Chinese asset values for real estate, stocks and bonds as investors hoard cash, buy gold and move to the sidelines.”
“Since China represents about 10% of global GDP, any problems in China will not stop there but will ripple around the world …”
e) The failures that Rickards warned about have begun. Forbes reported that Shanghai Chaori Solar became China’s first ever bond default that was not covered over by a government bailout.
No, it’s not the size of the Lehman Bros. bankruptcy that started the Great Financial Crisis. It’s more like the earlier problems at two of Bear Stearns’ subprime hedge funds that “ignited a burn that eventually triggered the global panic the following year … We doubt that the financial system in China will experience a liquidity crunch immediately because of this default but we think the chain reaction will probably start.”
“Chaori, as small and unimportant as it is, appears to be already affecting China’s credit markets. In the last few days, four debt issuers postponed offerings, and at last count at least 6.6 billion yuan of domestic bond sales have been delayed.”
f) Merrill Lynch reported “In the U.S., it took about a year to reach the Lehman stage when the market panicked and the shadow banking sector froze…”
For years I’ve said that the Chinese so-called economic miracle is smoke and mirrors and the chickens will come home to roost (apologies for another mixed metaphor). Command economies don’t work any better in China than they did in the former Soviet Union or Cuba or North Korea or Venezuela or Argentina.
g) There are now many signs of turmoil in the Chinese economy. International Business Times reports that China’s debt-laden steel industry is on the verge of bankruptcy. Quartz reported “How the $5 billion bankruptcy of a Chinese coal company’s could trigger financial panic.”
h) China Gaze reports bankruptcies are hitting ten Chinese industries: shipbuilding; iron and steel: LED lighting; furniture; real estate development; cargo shipping; trust and financial institutions; financial management; private equity; and group buying.
i) There’s more: the Financial Post reports “The U.S. and Europe learned the hard way about the dangers of shadow banks in the financial crisis but, five years later, China appears set to get its own painful lesson about what can happen when large capital flows get diverted to unregulated corners of the financial system” … “ ‘We estimate that 88% of the revenues of Chinese trust companies is at risk in the long term,’ said McKinsey and Ping An.”
j)Michael Snyder, in The Economic Collapse blog reports “The bubble of private debt that we have seen inflate in China since the Lehman crisis is unlike anything that the world has ever seen. Never before has so much private debt been accumulated in such a short period of time. All of this debt has helped fuel tremendous economic growth in China, but now a whole bunch of Chinese companies are realizing that they have gotten in way, way over their heads. In fact, it is being projected that Chinese companies will pay out the equivalent of approximately a trillion dollars in interest payments this year alone. That is more than twice the amount that the U.S. government will pay in interest in 2014.”
Yes, China is not the U.S. and yes, the Chinese monetary system is controlled by state banks not private banks like in the U.S. However, as Washington’s Blog headlines “138 Years of Economic History Show that It’s Excessive PRIVATE Debt Which Causes Depressions.”
k) Econinterest reports
another sign of China’s slowdown is February’s ‘surprise’ trade deficit i.e. China exported less than it imported. “For the first time in two years (and only the second time in more than ten years), China has a monthly trade deficit in excess of $10 billion.”
L) Ambrose Evans Pritchard in The Telegraph quotes Zhiwei Zhang from the Chinese newspaper Economic Daily News in an article headlined “Looming property default in China raises fears of broader crisis”.
“…the number of ghost towns has spread beyond the well-known disaster stories of Ordos and Wenzhou to at least eight other sites … We believe that a sharp property market correction could lead to a systemic crisis in China, and is the biggest risk China faces in 2014.”
The chart below shows residential construction that “has jumped fivefold from 497m square metres in new floor space to 2.596bn last year. Floor space per capita has reached 30 square metres, surpassing the level in Japan in 1988 just before the Tokyo market collapsed.”
The chart below showing housing inventory is trending even more ballistic than the residential floor space chart above.
The chart below is even more ominous. This ‘jaws of death’ chart shows the gap between housing starts (in grey) and sales (in red) is increasing.
“The mounting stress in the property sector is a test of President Xi Jinping’s vow to impose market discipline, however painful. Beijing allowed the solar group Chaori to default earlier this month, the first failure on China’s domestic bond market.
“The authorities are trying to wean the economy off excess credit after a $16 trillion spike in loans since 2009 – equal in size to the entire US banking system – but lending curbs are beginning to expose the sheer scale of bad debt in the system.”
And so it goes. The whole world had hoped China could save us from our own economic sins. As I said before, if our only saviour is a communist country then we are truly screwed. And, resource-based nations like Canada and Australia will feel a lot more pain in the upcoming economic downturn than in the last recession because this time we won’t have China’s insatiable appetite for our resources to carry us through.
Brace yourselves. We are five years into this twenty year “Fourth Turning”. We have a long painful road ahead of us. The good news is a better world will eventually emerge as the rot is expunged, but first we have to get there.
Remember the mantra:
We cannot borrow our way out of debt.
We cannot spend our way to prosperity.
We cannot pretend our way out of trouble.
March 19, 2014
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